Tax implications for private real estate investments are highly personal, so these won’t apply to every situation. However, these are general benefits most investors see when investing in private real estate.
1. Ability to Defer Taxes
Many investors choose to control more of their money upfront by deferring their taxes. This delivers long-term benefits and enables capital to grow more rapidly, sooner.
2. Reduced Taxable Income
Rental income – dividends, to investors – is not subject to certain kinds of taxes (such as Medicare and Social Security). This is significant when compared to earned income (though not necessarily when compared to other types of investment income).
This example from expert real estate investor Chad Carson explains the impact of Social Security and Medicare taxes:
“With a $100,000 salary, that’s $7,650 or $15,300 out of pocket from your salary. But if you earn $100,000 in rental income, you avoid the tax completely. This is a big incentive to start earning your money from rental income.”
3. Capitalize on Depreciation
Assets, including real estate, wear out over time. The IRS acknowledges this fact and allows owners to capture the “expense” of that wear as depreciation (even if you don’t spend any money on maintenance or repair). Your taxable income is reduced as a result of this depreciation “expense.”
Depending on the type of property you own or have invested in, the amount of depreciation you can report will differ. For example, a multifamily unit has a shorter depreciation schedule (and therefore, a higher amount you can claim each year) than an office, industrial, or retail property. These depreciate over a longer timeframe, so lower tax benefits accrue to the investor.
In a fund setting, a mix of diverse asset types helps you offset slower depreciation by adding in multifamily units.
4. Capital Gains Tax
The sale of property is taxed at capital gains rates (which is lower than income taxes). This is a strategic advantage for high net worth investors who may be taxed on other income at a very high rate. When selling real estate that’s appreciated in value, the gain is taxed at the capital gains rate, and you save money because it is a lower rate.
Our goal is to help our clients receive the benefits of investing in real estate without needing to manage it themselves, so we pass all these benefits along to you. Talk to your tax professional (or one of our tax experts here at MLG Capital) if you have additional questions on this important topic.